Chinese companies expand abroad to establish a global foothold in foreign markets

With deep pockets and eyes abroad, Chinese companies are looking to expand their footprints beyond China’s borders.

On November 1, the Ministry of Commerce (MOFCOM) released China’s outbound investment development report for 2010, painting a favorable picture for corporate China’s intentions to head overseas.

China’s outward direct investment (ODI) grew 1.1 percent year on year to $56.53 billion in 2009, compared with $2.8 billion in 2003, the report said.

The investing spree comes amid the unprecedented global recession that has forced multinationals to ease back on expansions. Global flows of foreign direct investment nose-dived 37 percent to around $1.1 trillion in 2009, said the United Nations Conference on Trade and Development.

The wave has showed no signs of tapering off this year. From January to September, China’s overseas investments in non-finance sectors soared 10.4 percent from a year ago to $36.3 billion, said Zhang Xiaoqiang, Vice Minister of the National Development and Reform Commission, at the opening ceremony of the Second China Overseas Investment Fair in Beijing on November 2.

In the latest of overseas investing, appliance maker Guangdong Midea Holding Co. Ltd. on October 11 announced the acquisition of a 32.5-percent stake in Miraco, an air conditioner market leader in Egypt. Midea is now the second largest shareholder of the Egyptian company and has gained access to Miraco’s products, brands and markets.

Without a doubt, expansion-minded Chinese firms are quickening the pace of establishing a cross-border presence. Their solid financial grounding and a stronger yuan are paving the way for them to step onto the world stage. Moreover, the Chinese companies now have the cash to cherry-pick foreign assets, while beleaguered global giants detach themselves from failing businesses.

Merger and acquisition (M&A) deals accounted for 34 percent of the country’s ODI value in 2009, said the MOFCOM report.

Policymakers have also recognized that going out is a much wiser strategy than staying home. “The government is sparing no effort to strengthen consultation services and protection for the firms heading overseas,” said Chen Lin, Deputy Director of the MOFCOM Department of Outward Investment and Economic Cooperation.

China has reached bilateral investment protection agreements with 130 nations, and the MOFCOM investment promotion agency has tied up counterparts in 71 countries and regions to beef up cooperation, said Chen.

In addition, stiff efforts are also underway to enhance risk alarms and emergency responses, as well as talent training about cross-cultural management, he said.

While state-owned enterprises lead the tide of globalization, private players are quickly stepping up their games as well, noted Chen.

One case in point is the Zhejiang-based Geely Automobile Holdings Ltd., which closed a deal in August to purchase the Volvo Car Corp. from Ford Motor Co.

By expanding globally, Chinese companies will make global names for themselves and help contribute to China’s economic recovery, said Chen Jian, MOFCOM Vice Minister.

“But they still have a long way to go before catching up with established multinationals,” he said. “It will take time to bridge the gap in experience.”

By the end of 2009, China’s accumulated ODI had amounted to $246 billion, a minuscule 1.3 percent of the world’s total, said the report.

The vice minister also dismissed rumors that the government handed out subsidies for state-owned enterprises to invest overseas. “Their outbound investments are completely market-driven strategies,” he said. “The enterprises operate independently and are responsible for their own profits or losses.”

Accumulating resources

The tide of overseas acquisitions was driven partly by China’s thirst for natural resources. The MOFCOM report said 24 percent of the country’s ODI last year went to the mining sector.

In the first nine months of this year, China was responsible for 49 outbound mining and metal deals, soaring 108 percent from a year earlier, said a report by the international accounting firm Ernst & Young.

For instance, PetroChina, the country’s largest oil and gas producer, has teamed up with Royal Dutch Shell Plc. to jointly acquire Arrow Energy Ltd., an Australian coal seam gas company. The two established a 50-50 percent joint venture to pay 3.5 billion Australian dollars ($3.1 billion) for all Arrow stock.

“China’s outbound M&A investment continues to be driven by the country’s need to secure reliable sources of raw materials to support its rapid economic growth and urbanization plans,” said Ernst & Young China mining and metals leader Peter Markey.

“Competition for assets has become a lot tougher, and deals are no longer just about cash, but about what else an investor can bring to the deal,” said Ernst & Young global mining and metals leader Mike Elliott.

Elliot said the most successful Chinese companies in the M&A market this year understand this and have used access to debt finance, new technologies and equipment and supplies with lower operating costs as additional incentives.

Although China’s current focus is mostly on countries with low political risks, Elliott said he has seen investor interest shifting to new regions like Latin America and Africa.

“Mining asset prices in developed countries like Canada and Australia have been bid up, which means assets in some higher-risk, new-mineral countries are of good value, providing a great opportunity for Chinese companies looking for lower-cost assets,” he said.

A welcomed trend

As Chinese firms try to widen their geographic scope, their efforts are being warmly greeted by the rest of the world. Many financially distressed Western companies are expecting that Chinese buyers will come to their rescue. Most importantly, the Chinese investments came as a powerful boon to boost local employment and tax revenues, said Vice Minister Chen.

Chinese companies generated $10.6 billion in tax revenues and created 438,000 jobs outside China in 2009, said the MOFCOM report.

Among the most ambitious firms was the Suntech Power Holdings Co. Ltd., China’s largest solar panel maker. In early October, it launched its first U.S. manufacturing plant in Arizona and it plans to create more than 1,000 local jobs in the United States where the employment landscape remains bleak.

“We are on the way to grab a 20-percent market share of the burgeoning U.S. solar industry this year, up from 15 percent in 2009,” said Shi Zhengrong of Suntech.

Besides this, Chinese investments have played a significant role in accelerating infrastructure construction and resources development of target countries, as well as improving living conditions of local residents, said Vice Minister Chen.

Since 2000, Chinese companies have built around 70 million square meters of houses, 60,000 km of railways and power generating units with an installed capacity of 3.5 million kw in Africa. Meanwhile, China has extended $11.2 billion in credit to African countries in the past decade.

In another move, the China National Petroleum Corp. made headways into oil exploration in Sudan. The company now boasts more than 3,000 km of oil pipelines and an annual refining capacity of 5 million tons in the African country. Those projects helped establish a modern oil industry in Sudan and injected fresh steam into the local economy, said the vice minister.

No guarantees

While Chinese firms continue revving up their deal-making machines, their success is far from guaranteed. Managerial expertise and cultural sensitivity needed to build a global scale cannot be achieved overnight. Regulatory hurdles are also casting an ominous shadow over their prospects.

A painful lesson was learned from the headline failure of Chinalco’s $19.5-billion investment proposal with Australian miner Rio Tinto in June 2009.

Of the failed deals worth at least $300 million since 2005, some 65 percent were due to foreign regulation, 9 percent to an unfavorable market environment and 4 percent to higher bid prices of competitors, said the MOFCOM report. And quite often, the target assets are just too difficult to run for Chinese managers with little cross-border experience, it added.

The Chinese machinery manufacturer Tengzhong stunned the world last year when it proposed to buy the road-hogging Hummer brand from GM. But given its inexperience with auto-making, suspicions proliferated about how it could turn around a brand that even GM failed to rescue.

“Outbound investment needs to be tied closely to the corporate strategy and the fundamentals of the business at home. This is a basis for target identification,” said Honson To, partner in charge of transactions and restructuring at KMPG China. “An internal ability to fully understand and assess a potential target is a hallmark of world-class deal making and something that many Chinese companies are still developing.”

The good news is there appears to be an increased deal-making prowess on the part of Chinese businesses. Many have started outgoing forays with smaller acquisitions or simply gathering core technologies, said Xing Houyuan, a senior researcher at the Chinese Academy of International Trade and Economic Cooperation, a think-tank affiliated with MOFCOM.

Among the most visionary investors was Beijing Automotive Industry Holding Corp. (BAIC), the fifth largest automaker in China. In December 2009, it paid $200 million for intellectual property rights to certain sedan models from Saab, a premium Swedish auto brand. The deal, coming as a boost for the Chinese company in pursuit of its own brand models, is expected to save it five to six years of research.

Chinese companies are increasingly hunting down opportunities before the recovering prices put their target assets out of reach, said Xing.

But they must have a clear long-term strategy and should fully understand the target customers, as well as the local legal environment, she said.